Have you been on the line lately with a lender who talked excitedly about the benefits of a five- or seven-year mortgage? If so, you're hardly alone.
Such mortgages offer the lure of below-market payments in the first five to seven years.
They seem particularly attractive if you're buying or refinancing a home where you plan to stay for a relatively short time.
But, as mortgage experts caution, not all "intermediate term" mortgages are created equal. Some could put you in a risky position -- should your moving plans change. The experts say you should be especially wary of a home loan that "balloons" after a few years -- making the whole balance payable in one lump sum.
"The bottom line is that a balloon loan equals excess risk. And who needs it?" asks Peter G. Miller, the Silver Spring-based author of The Common-Sense Mortgage, a HarperCollins book.
Many balloon loans now carry a provision that lets you refinance with the same lender -- should you elect to remain in the home after the balloon payment comes due. But what many borrowers fail to grasp is that there can be sticky conditions attached to the ability to refinance one of these balloons.
"The lender gives himself a lot of outs," says Buddy Koolhof, Owings Mills branch manager for NVR Mortgage LP, a mortgage banking firm.
Suppose you're a sales executive for a pharmaceutical company who is buying a new garden condo town house. You love the condo for its deck and patio. Still, because your company has put you on notice that it plans to move you to Omaha in three or four years, you take a balloon mortgage at a low interest rate.
But instead of moving you, the company eliminates your job after a few years. Shortly after, the balance on your balloon mortgage becomes due. Eventually you get another job with a small, local firm.
But because a couple of your payments were late, your lender refuses to refinance the balloon mortgage and you find yourself forced to look for another lender or sell the condo.
The good news is that you can obtain nearly the favorable mortgage rate associated with a five- to seven-year balloon mortgage through another similar, but less risky, home loan called the "Two-Step." Had you taken one of these loans when you bought your garden condo, you would have enjoyed the benefit of a relatively low mortgage rate in the first years while still keeping your option of refinancing if your plan to move to Omaha changes.
The average balloon mortgage is basically an intermediate term fixed-rate home loan that could push you to the wall if you decide to remain in your home.
On the other hand, the Two-Step loan is a very different animal, mortgage experts emphasize.
Basically the Two-Step, a trademarked product perfected by Fannie Mae, the nation's largest investor in home mortgages, is an adjustable rate mortgage (ARM) that adjusts just once during the full 30-year term of the loan. Usually, there are no conditions associated with your ability to keep the loan beyond the five- or seven-year mark.
"Certainly, I would sleep much more soundly with the Two-Step than the balloon," says Dennis Godfrey, director of product development for Fannie Mae and an architect of the Two-Step, which has become popular throughout the country.
For those interested in a short-term home loan, mortgage experts make these suggestions:
* Watch out for factors that could block you from refinancing your balloon mortgage with the same lender.
Fannie Mae has made widely available to the mortgage market a seven-year balloon mortgage with a kicker which lets you refinance at the end of seven years -- should your plans change.
But as Fannie Mae's Mr. Godfrey points out, there are several strings attached.
To refinance one of these balloon mortgages with the same lender, you must have kept your payments current for the prior 12 months, have no liens on the property other than the first mortgage and occupy the home rather than renting it out. It's probable you'll also have to pay up to $250 for the privilege of refinancing.
Maybe you'll be in the position to meet the lender's conditions and refinance your balloon loan. Then again, maybe you won't. "Why take a balloon loan and give up your flexibility?" Mr. Miller, the Silver Spring author, asks.
* Study the exact provisions of the home loan you're considering before you commit.
The proliferation of new mortgage products has made the sorting out process all the more confusing, points out Paul Havemann, a vice president at HSH Associates, a firm that tracks mortgage rates for consumers. And you can't always count on loan officers to straighten you out, since they, too, may be puzzled about the differences among loan products, he says.
To get what Mr. Havemann calls "all the nuts and bolts and gory details," ask for a copy of the actual loan agreement (the "note") ++ or obtain all the disclosure papers on the loan before you finalize your application.
"Obviously, it's in everyone's best interest that you know what you're getting into, so there are no hard feelings later," he says.